QuickLinks-- Click here to rapidly navigate through this documentUNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549FORMForm 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
/x/ | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended March 31, 1999
September 30, 2000
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
| / / | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from ________________ to ________________
Commission File Number: 0-15638
MICHAEL FOODS, INC.
(Exact
Michael Foods, Inc.
(Exact name of registrant as specified in its charter)
Minnesota 41-0498850
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
Suite 324, Park National Bank Building
5353 Wayzata Boulevard
Minneapolis, MN 55416
(Address of principal executive offices) (Zip code)
(612)
| Minnesota (State or other jurisdiction of incorporation or organization) | 41-0498850 (I.R.S. Employer Identification No.) | |
Suite 324, Park National Bank Building 5353 Wayzata Boulevard Minneapolis, MN, (Address of principal executive offices) | 55416 (Zip code) |
(952) 546-1500
(Registrant's
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. [X] Yes [ ]/x/ No / /
The number of shares outstanding of the registrant's Common Stock, $.01 par value, as of May 3, 1999November 6, 2000 was 20,586,92418,284,991 shares.
PART I - I—FINANCIAL INFORMATION
MICHAEL FOODS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)
================================================================================
March 31, December 31,
ASSETS 1999 1998
- ------ ------------ ------------
CURRENT ASSETS
Cash and equivalents $ 4,679,000 $ 2,047,000
Accounts receivable, less allowances 92,116,000 97,639,000
Inventories 77,249,000 74,250,000
Prepaid expenses and other 3,727,000 3,884,000
------------ ------------
Total current assets 177,771,000 177,820,000
PROPERTY, PLANT AND EQUIPMENT-AT COST
Land 4,336,000 4,336,000
Buildings and improvements 105,246,000 105,567,000
Machinery and equipment 341,958,000 328,067,000
------------ ------------
451,540,000 437,970,000
Less accumulated depreciation 195,939,000 187,759,000
------------ ------------
255,601,000 250,211,000
OTHER ASSETS
Goodwill, net 119,311,000 120,172,000
Investments in Joint Ventures and other assets 12,440,000 3,313,000
------------ ------------
131,751,000 123,485,000
------------ ------------
$565,123,000 $551,516,000
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
- ------------------------------------
CURRENT LIABILITIES
Current maturities of long-term debt $ 10,667,000 $ 10,663,000
Accounts payable 49,426,000 44,376,000
Accrued Liabilities
Compensation 7,483,000 11,034,000
Insurance 8,016,000 7,369,000
Customer programs 19,641,000 19,624,000
Other 23,688,000 23,457,000
------------ ------------
Total current liabilities 118,921,000 116,523,000
LONG-TERM DEBT, less current maturities 170,914,000 155,444,000
DEFERRED INCOME TAXES 32,669,000 35,400,000
COMMITMENTS AND CONTINGENCIES - -
SHAREHOLDERS' EQUITY
Common stock 206,000 211,000
Additional paid-in capital 111,195,000 119,871,000
Retained earnings 131,218,000 124,067,000
------------ ------------
242,619,000 244,149,000
------------ ------------
$565,123,000 $551,516,000
============ ============
================================================================================
| | September 30, 2000 | December 31, 1999 | ||||||||
|---|---|---|---|---|---|---|---|---|---|---|
| ASSETS | ||||||||||
| CURRENT ASSETS | ||||||||||
| Cash and equivalents | $ | 7,682,000 | $ | 4,961,000 | ||||||
| Accounts receivable, less allowances | 98,895,000 | 92,493,000 | ||||||||
| Inventories | 82,721,000 | 71,197,000 | ||||||||
| Prepaid expenses and other | 4,668,000 | 4,604,000 | ||||||||
| Total current assets | 193,966,000 | 173,255,000 | ||||||||
| PROPERTY, PLANT AND EQUIPMENT-AT COST | | | | | | | | |||
| Land | 4,106,000 | 4,104,000 | ||||||||
| Buildings and improvements | 133,890,000 | 133,778,000 | ||||||||
| Machinery and equipment | 376,741,000 | 357,724,000 | ||||||||
| 514,737,000 | 495,606,000 | |||||||||
| Less accumulated depreciation | 233,992,000 | 208,807,000 | ||||||||
| 280,745,000 | 286,799,000 | |||||||||
| OTHER ASSETS | | | | | | | | |||
| Goodwill, net | 114,146,000 | 116,729,000 | ||||||||
| Joint ventures and other assets | 18,660,000 | 21,134,000 | ||||||||
| 132,806,000 | 137,863,000 | |||||||||
| $ | 607,517,000 | $ | 597,917,000 | |||||||
| LIABILITIES AND SHAREHOLDERS' EQUITY | | |||||||||
| CURRENT LIABILITIES | ||||||||||
| Current maturities of long-term debt | $ | 2,881,000 | $ | 3,130,000 | ||||||
| Accounts payable | 51,076,000 | 47,009,000 | ||||||||
| Accrued liabilities | ||||||||||
| Compensation | 13,071,000 | 13,143,000 | ||||||||
| Insurance | 7,292,000 | 7,229,000 | ||||||||
| Customer programs | 18,567,000 | 20,999,000 | ||||||||
| Income taxes | 11,643,000 | 11,805,000 | ||||||||
| Other | 13,432,000 | 18,176,000 | ||||||||
| Total current liabilities | 117,962,000 | 121,491,000 | ||||||||
| LONG-TERM DEBT, less current maturities | | | 203,370,000 | | | 175,404,000 | | |||
| DEFERRED INCOME TAXES | 37,507,000 | 36,423,000 | ||||||||
| COMMITMENTS AND CONTINGENCIES | — | — | ||||||||
| SHAREHOLDERS' EQUITY | | | | | | | | |||
| Common stock | 182,000 | 203,000 | ||||||||
| Additional paid-in capital | 58,390,000 | 102,777,000 | ||||||||
| Retained earnings | 191,696,000 | 162,577,000 | ||||||||
| Accumulated comprehensive income (loss) | (1,590,000 | ) | (958,000 | ) | ||||||
| 248,678,000 | 264,599,000 | |||||||||
| $ | 607,517,000 | $ | 597,917,000 | |||||||
See accompanying notes to condensed consolidated financial statements.
2
MICHAEL FOODS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF EARNINGS
Three Months Ended March 31,September 30, (Unaudited)
================================================================================
1999 1998
------------ ------------
Net sales $253,378,000 $245,589,000
Cost of sales 212,067,000 205,433,000
------------ ------------
Gross profit 41,311,000 40,156,000
Selling, general and administrative expenses 24,224,000 23,144,000
------------ ------------
Operating profit 17,087,000 17,012,000
Interest expense, net 2,820,000 2,764,000
------------ ------------
Earnings before income taxes 14,267,000 14,248,000
Income tax expense 5,850,000 5,990,000
------------ ------------
NET EARNINGS $ 8,417,000 $ 8,258,000
============ ============
Net Earnings Per Share
Basic $ 0.40 $ 0.38
Diluted $ 0.40 $ 0.37
============ ============
Weighted average shares outstanding
Basic 21,009,000 21,846,000
Diluted 21,230,000 22,208,000
============ ============
================================================================================
| | 2000 | 1999 | ||||||
|---|---|---|---|---|---|---|---|---|
| Net sales | $ | 276,568,000 | $ | 269,911,000 | ||||
| Cost of sales | 228,820,000 | 223,162,000 | ||||||
| Gross profit | 47,748,000 | 46,749,000 | ||||||
| Selling, general and administrative expenses | 25,506,000 | 25,355,000 | ||||||
| Operating profit | 22,242,000 | 21,394,000 | ||||||
| Interest expense, net | 3,524,000 | 3,241,000 | ||||||
| Earnings before income taxes | 18,718,000 | 18,153,000 | ||||||
| Income tax expense | 6,900,000 | 7,440,000 | ||||||
| NET EARNINGS | $ | 11,818,000 | $ | 10,713,000 | ||||
| Net Earnings Per Share | ||||||||
| Basic | $ | 0.65 | $ | 0.53 | ||||
| Diluted | $ | 0.64 | $ | 0.52 | ||||
| Weighted average shares outstanding | ||||||||
| Basic | 18,278,000 | 20,251,000 | ||||||
| Diluted | 18,516,000 | 20,522,000 | ||||||
See accompanying notes to condensed consolidated financial statements.
3
MICHAEL FOODS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
ThreeEARNINGS
Nine Months Ended March 31,September 30, (Unaudited)
================================================================================
1999 1998
------------ ------------
Net cash provided by operating activities $ 22,199,000 $ 20,425,000
Cash flows from investing activities:
Capital expenditures (15,308,000) (19,514,000)
Investments in joint ventures and other assets (9,169,000) 366,000
------------ ------------
Net cash used in investing activities (24,477,000) (19,148,000)
Cash flows from financing activities:
Payments on long-term debt (36,526,000) (795,000)
Proceeds from long-term debt 52,000,000 700,000
Proceeds from issuance of common stock 219,000 766,000
Repurchase of common stock (9,518,000) --
Dividends (1,265,000) (1,095,000)
------------ ------------
Net cash provided by (used in) financing activities 4,910,000 (424,000)
------------ ------------
Net increase in cash and equivalents 2,632,000 853,000
Cash and equivalents at beginning of year 2,047,000 4,038,000
------------ ------------
Cash and equivalents at end of period $ 4,679,000 $ 4,891,000
============ ============
================================================================================
| | 2000 | 1999 | ||||||
|---|---|---|---|---|---|---|---|---|
| Net sales | $ | 795,110,000 | $ | 781,320,000 | ||||
| Cost of sales | 650,872,000 | 642,301,000 | ||||||
| Gross profit | 144,238,000 | 139,019,000 | ||||||
| Selling, general and administrative expenses | 79,168,000 | 77,831,000 | ||||||
| Operating profit | 65,070,000 | 61,188,000 | ||||||
| Interest expense, net | 9,778,000 | 8,862,000 | ||||||
| Earnings before income taxes | 55,292,000 | 52,326,000 | ||||||
| Income tax expense | 21,710,000 | 21,450,000 | ||||||
| NET EARNINGS | $ | 33,582,000 | $ | 30,876,000 | ||||
| Net Earnings Per Share | ||||||||
| Basic | $ | 1.75 | $ | 1.50 | ||||
| Diluted | $ | 1.73 | $ | 1.48 | ||||
| Weighted average shares outstanding | ||||||||
| Basic | 19,172,000 | 20,574,000 | ||||||
| Diluted | 19,394,000 | 20,818,000 | ||||||
See accompanying notes to condensed consolidated financial statements.
4
MICHAEL FOODS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
Nine Months Ended September 30, (Unaudited)
| | 2000 | 1999 | |||||||
|---|---|---|---|---|---|---|---|---|---|
| Net cash provided by operating activities | $ | 50,179,000 | $ | 73,327,000 | |||||
| Cash flows from investing activities: | |||||||||
| Capital expenditures | (25,967,000 | ) | (60,918,000 | ) | |||||
| Investments in joint ventures and other assets | 835,000 | (20,976,000 | ) | ||||||
| Net cash used in investing activities | (25,132,000 | ) | (81,894,000 | ) | |||||
| Cash flows from financing activities: | | | | | | | | ||
| Payments on long-term debt | (130,383,000 | ) | (138,696,000 | ) | |||||
| Proceeds from long-term debt | 158,100,000 | 177,200,000 | |||||||
| Proceeds from issuance of common stock | 545,000 | 755,000 | |||||||
| Repurchase of common stock | (46,125,000 | ) | (18,927,000 | ) | |||||
| Dividends | (4,463,000 | ) | (4,127,000 | ) | |||||
| Net cash provided by (used in) financing activities | | | (22,326,000 | ) | | 16,205,000 | | ||
| Net increase in cash and equivalents | | | 2,721,000 | | | 7,638,000 | | ||
| Cash and equivalents at beginning of year | | | 4,961,000 | | | 2,047,000 | | ||
| Cash and equivalents at end of period | | $ | 7,682,000 | | $ | 9,685,000 | | ||
See accompanying notes to condensed consolidated financial statements.
5
MICHAEL FOODS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
(Unaudited)
NOTE A - A—BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with Regulation S-X pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted accounting principlesin the United States of America have been condensed or omitted pursuant to such rules and regulations, although management believes that the disclosures are adequate to make the information presented not misleading.
Michael Foods, Inc. (the "Company") utilizes a fiscal year consisting of either 52 or 53 weeks, ending on the Saturday nearest to December 31 each year. The quarters ended March 31,September 30, 2000 and 1999 and 1998 each included thirteen weeks of operations. For clarity of presentation, the Company has described both periods presented as if the quarterquarters ended on March 31.September 30.
In the opinion of management, the unaudited condensed consolidated financial statements contain all adjustments (consisting of only normal recurring adjustments) necessary to present fairly the financial position as of March 31,
1999September 30, 2000 and the results of operations for the three monthsand nine month periods ended March 31,September 30, 2000 and 1999 and
1998 and cash flows for the threenine months ended March 31, 1999September 30, 2000 and 1998.1999. The results of operations for the threenine months ended March 31, 1999September 30, 2000 are not necessarily indicative of the results for the full year.
The Company's basic net earnings per share is computed by dividing net earnings by the weighted average number of outstanding common shares. The Company's diluted net earnings per share is computed by dividing net earnings by the weighted average number of outstanding common shares and common share equivalents relating to stock options, when dilutive. Options to purchase 769,165657,676 and 681,878 shares of Common Stock, with a weighted average exercise priceprices of $24.83,$24.91 and $24.87, which were outstanding during the three and nine month periodperiods ended March 31,
1999,September 30, 2000, were excluded from the computation of common share equivalents for that
periodthose periods because they were anti-dilutive. ThereOptions to purchase 390,275 and 734,824 shares of common stock, with a weighted average exercise price of $25.56 and $24.80, were no anti-dilutive options outstanding during the three and nine month periodperiods ended March 31, 1998.
September 30, 1999, but were excluded from the computation of common share equivalents for those periods because they were anti-dilutive.
NOTE B - B—INVENTORIES
Inventories, other than flocks, are stated at the lower of cost (determined on a first-in, first-out basis) or market. Flock inventory represents the cost of purchasing and raising flocks to laying maturity, at which time their cost is amortized to operations over their expected useful life of generally one to two years, assuming no salvage value.
Inventories consist of the following:
March 31, December 31,
1999 1998
------------- ------------
Raw materials and supplies $19,814,000 $15,389,000
Work in process and finished goods 38,004,000 36,977,000
Flocks 19,431,000 21,884,000
------------- ------------
$77,249,000 $74,250,000
============ ===========
| | September 30, 2000 | December 31, 1999 | |||||
|---|---|---|---|---|---|---|---|
| Raw materials and supplies | $ | 16,152,000 | $ | 15,720,000 | |||
| Work in process and finished goods | 42,885,000 | 35,447,000 | |||||
| Flocks | 23,684,000 | 20,030,000 | |||||
| $ | 82,721,000 | $ | 71,197,000 | ||||
6
NOTE C - C—COMMITMENTS AND CONTINGENCIES
Use of Estimates
- ----------------
Preparation of the Company's consolidated financial statements requires management to make estimates and assumptions that affect reported amounts of assets and liabilities and related revenues and expenses. Actual results could differ from the estimates used by management.
5
MICHAEL FOODS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
(Unaudited)
NOTE C - COMMITMENTS AND CONTINGENCIES, cont.
License Agreement
- -----------------
The Company has an exclusive license agreement for a patented process for the production and sale of extended shelf-life egg products. Under the license agreement, the Company has the right to defend and prosecute infringement of the licensed patents. The U.S. Federal Court of Appeals has upheld the validity of the four patents subject to the license agreement, but,agreement. However, subsequently a patent examiner at the U.S. Patent and Trademark Office ("PTO") rejected the patents. The
Company is appealingIn August 1999, the decisionexaminer's rejections were largely overturned by the Board of Appeals and Interferences of the examiner and believes the validityPTO. Reexamination certificates for three of the patents will ultimately be upheld. Duringhave since been issued by the appealPTO. In August 2000, the Company and the patent holder received a Notice of Allowability, followed by a Notice of Allowance, regarding the reissuance of the fourth patent, which included the allowance of product claims beyond the process the patents
remain valid and in full force and effect.claims previously allowed. These patents are scheduled to expire in 2006. In the second quarter of 2000, the Company and the patent holder completed a new royalty arrangement whereby the Company pays a reduced amount of royalties and, in turn, is responsible for one-half of any litigation expense incurred to defend the patents.
Litigation
- ----------
The Company is engaged in routine litigation incidental to its business. Management believes it will not have a material effect upon its consolidated financial position, liquidity or results of operations.
NOTE D - D—SHAREHOLDERS' EQUITY
During the three months ended March 31,third quarters of 2000 and 1999 the Company repurchased 444,800no shares of Common Stock under athe share repurchase program. Such repurchasesprogram which began in July 1998. Through March 31,1998 and was expanded in February and May 2000. Repurchases for the first nine months of 2000 and 1999 the Company had repurchased 1,488,000were 2,109,400 and 920,100 shares of Common Stock.
NOTE E - RISKS AND UNCERTAINTIES
The Year 2000 issue relates to limitations in computer systemsE—COMPREHENSIVE INCOME
Comprehensive income consists of net earnings and applications
that may prevent proper recognition of the year 2000. The potential effect of
the Year 2000 issue on the Companyforeign currency translation adjustments. Total comprehensive income was $11,644,000 and its business partners will not be fully
determinable until 2000 and thereafter. If Year 2000 modifications are not
properly completed either by the Company, or entities the Company conducts
business with, the Company's net sales and financial condition could be
adversely effected.
NOTE F - INTERNATIONAL INVESTMENTS AND SUBSEQUENT EVENT
During$10,713,000 for the three months ended March 31, 1999,September 30, 2000 and 1999. The total comprehensive income was $32,950,000 and $30,876,000 for the Company made two investments
in Europe to further its leadership in global egg products processing. The first
investment was a 25% interest in Belovo, S. A., a specialty egg products company
based in Belgium. The second investment was a 50/50 joint venture with the
founding shareholders of Belovo forming The Lipid Company, a company involved in
the extraction of phospholipids from egg yolks for use in the field of
nutraceuticals.
In May 1999, the Company's Kohler Mix Specialties, Inc. subsidiary completed an
acquisition of certain operating assets, customer listnine months ended September 30, 2000 and the long-term lease
of a dairy mix plant from H. P. Hood Inc. The Company has an option to purchase
the building and land at the lease's termination. The plant mainly produces
ultra-high temperature pasteurized dairy mixes for foodservice customers in the
eastern United States. The facility generated 1998 net sales of approximately
$37 million.
6
MICHAEL FOODS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
================================================================================
(Unaudited)
1999.
7
NOTE G - F—BUSINESS SEGMENTS
The Company has adopted Statement of Financial Accounting Standards No. 131,
DISCLOSURES ABOUT SEGMENTS OF AN ENTERPRISE AND RELATED INFORMATION.
The Company operates in four reportable segments - segments—Egg Products, Refrigerated Distribution, Dairy Products and Potato Products. Certain financial information on the Company's operating segments is as follows (unaudited, in thousands):
| | Egg Products | Refrigerated Distribution | Dairy Products | Potato Products | Corporate | Total | |||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Three Months ended September 30, 2000: | |||||||||||||||||
| External net sales | $ | 162,461 | $ | 57,636 | $ | 41,305 | $ | 15,166 | N/A | $ | 276,568 | ||||||
| Intersegment sales | 2,849 | 10 | 22 | 632 | N/A | 3,513 | |||||||||||
| Operating profit (loss) | 16,665 | 3,829 | 1,329 | 1,548 | (1,129 | ) | 22,242 | ||||||||||
| Three Months ended September 30, 1999: | |||||||||||||||||
| External net sales | $ | 157,843 | $ | 55,833 | $ | 41,498 | $ | 14,737 | N/A | $ | 269,911 | ||||||
| Intersegment sales | 3,235 | 24 | 415 | 577 | N/A | 4,251 | |||||||||||
| Operating profit (loss) | 17,935 | 2,462 | 319 | 2,006 | (1,328 | ) | 21,394 | ||||||||||
| Nine Months ended September 30, 2000: | |||||||||||||||||
| External net sales | $ | 472,849 | $ | 169,073 | $ | 109,237 | $ | 43,951 | N/A | $ | 795,110 | ||||||
| Intersegment sales | 8,676 | 68 | 507 | 1,800 | N/A | 11,051 | |||||||||||
| Operating profit (loss) | 50,757 | 11,962 | 2,271 | 4,534 | (4,454 | ) | 65,070 | ||||||||||
| Nine Months ended September 30, 1999: | |||||||||||||||||
| External net sales | $ | 460,481 | $ | 166,382 | $ | 112,251 | $ | 42,206 | N/A | $ | 781,320 | ||||||
| Intersegment sales | 12,723 | 69 | 993 | 1,775 | N/A | 15,560 | |||||||||||
| Operating profit (loss) | 52,537 | 7,046 | 3,272 | 4,565 | (6,232 | ) | 61,188 | ||||||||||
8
Item 2—Management's Discussion and Analysis of Financial Condition and Results of Operations
THREE MONTHS ENDED MARCH 31, 1999SEPTEMBER 30, 2000 VS THREE MONTHS ENDED MARCH 31, 1998
RESULTS OF OPERATIONS
SEPTEMBER 30, 1999
Results of Operations
Readers are directed to Note G - F—Business Segments for data on the unaudited financial results of the Company's four business segments for the three months ended March 31, 1999September 30, 2000 and 1998.1999.
Egg Products Division net sales for the 19992000 period reflected unit sales increases, particularly for value-added products, which more than offset significant deflationary pricing impacts on certainindustrial products. SalesSignificant unit sales increases were particularly strongrecorded for precooked extended shelf-life liquid eggs, egg substitutes and dried egg products. Unit sales declined in two categories—frozen omelets, patties and curds.short shelf-life eggs—as the Division chose not to pursue sales with little or no profit margin. Egg prices decreasedincreased approximately 5%1% compared to firstthird quarter 19981999 levels, as reported by Urner Barry Publications - Publications—a widely quoted industry pricing service. This decrease
helped reduceincrease raised the cost of purchased eggs while also reducing sellingduring a period where prices for certainindustrial egg products were generally lower than normal. Moreover, extreme volatility in egg prices occurred during the quarter, making it difficult to realize typical spreads between raw material costs and shell eggs.finished industrial egg products prices for any significant length of time. However, earnings increases from value-added egg products largely off-set the margin weakness seen from industrial egg product sales.
Approximately two-thirds of the Division's annual egg needs are purchased under contracts, or in the spot market. While a portion of these eggs are secured under fixed price contracts, a majority are priced according to the cost of grain inputs or to egg market prices as reported by Urner Barry. Approximately one-third of annual egg needs are sourced from internal flocks, where feed costs typically represent roughly two-thirds of the cost of producing such eggs. Feed costs were lowerslightly higher in the 19992000 period, compared to the 19981999 period, due to lowerhigher prices for both corn and soybean meal. DecreasedIncreased egg costs, for both internally and externally procured eggs, in the 19992000 period, compared to the 19981999 period, were more than offset by pricing
weakness,generally not met with comparable price changes in egg products prices, creating margin pressure for certain industrial egg products. The most effectedEgg Products results in the 1999 period were impacted by two non-recurring items. First, a gain was recorded on the sale of a shell egg production facility. Second, a Belgium animal feed contamination scare resulted in losses at the Company's two European egg products soldjoint ventures. The net effect of these items was a modest addition to industrial users such as bakeries and other food
processors.earnings.
Refrigerated Distribution Division net sales for the 19992000 period reflected strong unit sales increases, with cheese butter, and potato productsbutter showing particular strength. Sales growth resulted from a brand repositioning over the past two years and a more recentbroadening consumer advertising campaign in selected markets, along with notable new account activity and new product introductions. The volume growth, along with a decline inmore normal product costs for items related to the national butterfat market, resulted in margin expansion in the 19992000 period.
7
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED
================================================================================
THREE MONTHS ENDED MARCH 31, 1999 VS THREE MONTHS ENDED MARCH 31, 1998, CONT.
RESULTS OF OPERATIONS, CONT.
The modest Dairy Products DivisionDivision's flat net sales increase for the 19992000 period reflected stronglower unit sales gainsvolumes for the core dairy mix business, in part due to the loss of a major industrial (tanker) customer in late 1999, which offset increased volumes for cartoned specialty products and creamer products, which
more than offset the effects of a recall of certain cartoned specialty dairy
products early in the period. As a result of the recall, sales volumes for
cartoned products (approximately 15-20% of annual sales) for the main dairy
products facility were well below normal levels forand slightly higher unit pricing compared to the 1999 period. The recall
has effectively been completed and production and sales of cartoned products
from the main plant have resumed. However, to date, such production and sales
have not returned to pre-recall levels. Divisional operating profit declinedincreased in the 19992000 period as a result of incrementalthe higher sales of specialty products, and improvements in overhead expenses incurred during the recall
period which were outside of the scope of insurance coverage.and operating expenses.
Potato Products Division net sales for the 19992000 period reflected a strongincreased unit sales, increase, particularly for both retail and foodservice mashed potato items. New account activity and same-account sales growth and new product introductions all contributed to the sales gain. The significant operating profit increasedecrease in the 19992000 period resulted primarily from the volume growth, as plant operations at the main
potato processing facility benefited from thea less favorable sales mix, reflecting a slight sales decrease for retail shredded products, and increased production throughput.marketing spending.
9
The decrease in gross profit margin of the Company for the period ended March
31, 1999, as comparedSeptember 30, 2000 was comparable to the resultsthat of the same period in 1998, reflected1999, reflecting the factors discussed above, particularly the weakness inmargin pressures within the industrial segment ofegg products category and the Egg Productsmargin increases within the Refrigerated Distribution Division. It is management's strategy to increase value-added product sales as a percent of total sales over time, while decreasing commodity-sensitive products' contribution to consolidated sales. These efforts historically have been beneficial to gross profit margins in most periods.
Selling, general and administrative expenses increaseddecreased slightly as a percent of sales in the period ended March 31, 1999,September 30, 2000, as compared to the results of the same period in 1998.1999. Favorable impacts from effective expense management more than offset increased expenses related to amortization of the costs associated with the Company's information systems upgrade project and additional marketing efforts.
NINE MONTHS ENDED SEPTEMBER 30, 2000 VS NINE MONTHS ENDED
SEPTEMBER 30, 1999
Results of Operations
Readers are directed to Note F—Business Segments for data on the unaudited financial results of the Company's four business segments for the nine months ended September 30, 2000 and 1999.
Egg Products Division net sales for the 2000 period reflected unit sales increases, particularly for value-added products, which more than offset significant deflationary pricing impacts on certain products and an approximate 40% decline in shell egg sales. The latter was by plan and reflects, in part, the sale of a small shell egg facility in the summer of 1999. Sales were particularly strong for extended shelf-life liquid eggs, dried egg products and precooked frozen omelets, patties and curds. Egg prices decreased approximately 3% compared to 1999 levels, as reported by Urner Barry Publications. This decrease lowered the cost of purchased eggs, but this occurred during a period where prices for industrial egg products were generally depressed. Moreover, extreme volatility in egg prices occurred during the 2000 period, making it difficult to realize typical spreads between raw material costs and finished industrial egg products prices for any significant length of time. However, earnings increases from value-added egg products largely off-set the margin weakness seen from industrial egg product sales.
Approximately two-thirds of the Division's annual egg needs are purchased under contracts, or in the spot market. While a portion of these eggs are secured under fixed price contracts, a majority are priced according to the cost of grain inputs or to egg market prices as reported by Urner Barry. Approximately one-third of annual egg needs are sourced from internal flocks, where feed costs typically represent roughly two-thirds of the cost of producing such eggs. Feed costs in the 2000 period were comparable to the 1999 period. Decreased egg costs, for externally procured eggs, in the 2000 period, compared to the 1999 period, and improved value-added egg products earnings, were more than offset by pricing and margin weakness in certain industrial egg products.
Divisional operating profit for the 2000 period also reflected the benefit of reduced royalty expense, a portion of which was a retroactive adjustment to January 1, 1999. Under an agreement reached during the second quarter of 2000 period, royalties related to products produced and sold by the Company under a license with NCSU are limited to a fixed portion of the annual production. In consideration of the reduced royalty arrangement, the Company is responsible for one-half of any future litigation expense incurred to defend the patented egg ultra-pasteurization processing technology. Egg Products results in the 1999 period were impacted by two non-recurring items.
First, a gain was recorded on the sale of a shell egg production facility. Second, a Belgium animal feed contamination scare resulted in losses at the Company's two European egg products joint ventures. The net effect of these items was a modest addition to earnings.
10
Refrigerated Distribution Division net sales for the 2000 period reflected strong unit sales increases, with cheese and butter showing particular strength. Sales growth resulted from a brand repositioning over the past two years and a broadening consumer advertising campaign in selected markets, along with notable new account activity and new product introductions. The volume growth, along with more normal product costs for items related to the national butterfat market, resulted in margin expansion in the 2000 period.
The Dairy Products Division net sales decline for the 2000 period reflected lower unit sales volumes for the core dairy mix business, in part due to the loss of a major industrial (tanker) customer in late 1999, which offset increased volumes for cartoned specialty products and creamer products. Divisional operating profit declined in the 2000 period as a result of the reduced sales volumes, high overhead expenses and above average operating expenses.
Potato Products Division net sales for the 2000 period reflected a strong unit sales increase, particularly for mashed items and retail shredded products. New account activity, same-account sales growth and new product introductions all contributed to the sales gain. The flat operating profits in the 2000 period compared to the 1999 period reflect benefits from the volume growth, as plant operations at the main potato processing facility benefited from the increased production throughput, which were offset by increased marketing spending.
The increase in gross profit margin of the Company for the period ended September 30, 2000, as compared to the results of the same period in 1999, reflected the factors discussed above, particularly the strength in the Refrigerated Distribution Division. It is management's strategy to increase value-added product sales as a percent of total sales over time, while decreasing commodity-sensitive products' contribution to consolidated sales. These efforts historically have been beneficial to gross profit margins in most periods.
Selling, general and administrative expenses remained approximately constant as a percent of sales in the period ended September 30, 2000, as compared to the results of the same period in 1999. Expenses increased due to amortization of the costs associated with the Company's information systems upgrade project, amortization of a non-compete agreement related to a May 1999 Dairy Products acquisition, increases in bad debt expense resulting from a foodservice distributor's bankruptcy filing, and due to additional sales and marketing efforts. GENERALHowever, these increased expenses were offset by effective expense controls in other areas and the favorable impact of the reduced egg products royalty arrangement, including a one-time retroactive benefit.
General
Certain of the Company's products are sensitive to changes in commodity prices. The Company's Egg Products Division derived approximately 6%less than 3% of the Division's net sales for the first threenine months of 1999 net sales2000 from shell eggs, which are sensitive to commodity price swings. Value-added extended shelf-life liquid egg products lines and precooked egg products accounted for approximately 50% of the Egg Products Division's net sales. The remainder of Egg Products Division sales is derived from the sale of other egg products, which vary from being commodity-sensitive to value-added. Gross profit from shell eggs is primarily dependent upon the relationship between shell egg prices and the cost of feed, both of which can fluctuate significantly. Shell egg pricing in the 19992000 period was approximately 5%3% below 19981999 levels as measured by a widely quoted pricing
service.Urner Barry Publications. Gross profit margins for extended shelf-life liquid eggs, egg substitutes, and precooked egg products are less sensitive to commodity price fluctuations than are other egg products or shell eggs.
The Company's Refrigerated Distribution Division derives approximately 70% of its net sales from refrigerated products produced by others, thereby reducing the effects of commodity price swings. The balance of refrigerated distribution sales are from shell eggs, some of which are produced by the Egg
11
Products Division and are sold on a distribution, or non-commodity, basis by the Refrigerated Distribution Division.
8
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED
================================================================================
THREE MONTHS ENDED MARCH 31, 1999 VS THREE MONTHS ENDED MARCH 31, 1998, CONT.
GENERAL, CONT.
The Dairy Products Division sells its products primarily on a cost-plus basis and, therefore, the Division's earnings are not typically affected greatly by raw ingredient price fluctuations, except over short time periods.
The Potato Products Division typically purchases 70%-90% of its raw potatoes from contract producers under annual contracts. The remainder is purchased at market prices to satisfy short-term production requirements or to take advantage of market prices when they are lower than contracted prices. Moderate variations in the purchase price of raw materials or the selling price per pound of endfinished products can have a significant effect on Potato Products Division operating results.
Inflation is not expected to have a significant impact on the Company's business. The Company generally has been able to offset the impact of inflation through a combination of productivity gains and price increases.
CAPITAL RESOURCES AND LIQUIDITY
Capital Resources and Liquidity
Acquisitions and capital expenditures have been, and will likely continue to be, a significant capital requirement. The Company plans to continue to invest in state-of-the-art production facilities to enhance its competitive position. Historically, the Company has financed its growth principally from internally generated funds, bank borrowings, issuance of senior debt and the sale of Common Stock. The Company believes that these financing alternatives will continue to meet its anticipated needs.
During the 1999 period, the Company made two investments in Europe. The first
investment was a 25% interest in Belovo, S. A., a specialty egg products company
based in Belgium. The second investment was a 50/50 joint venture with the
founding shareholders of Belovo forming The Lipid Company, a company involved in
the extraction of phospholipids from egg yolks for use in the field of
nutraceuticals. The cash paid at the time of closing the transactions was
approximately $9.3 million, which was funded through the Company's bank line of
credit. The investments will expand the Company's leadership position in global
egg products processing.
Subsequent to the end of the 1999 period, the Company completed a previously
announced acquisition of certain operating assets and the long-term lease of a
dairy products plant in Connecticut (see Part II - Item 5). The cash paid at
time of closing was approximately $5.7 million, which was funded through the
Company's bank line of credit. This transaction will greatly expand the
Company's Dairy Products business in the eastern United States.
The Company invested $15,308,000$25,967,000 in capital expenditures during the threenine months ended March 31, 1999.September 30, 2000. The Company plans to spend approximately $75,000,000$45,000,000 in total capital expenditures in 1999,2000, the majority of which is to expand production capacity for value-added products.
The Company has antwo unsecured linelines of credit for $80,000,000 and $20,000,000 with its principal banks. As of March 31, 1999, $44,400,000September 30, 2000, $73,000,000 was outstanding under this linethese lines of credit.
In July 1998, the Company's Board of Directors authorized the purchase of up to two million2,000,000 shares of Common Stock on the open market.market or in privately negotiated transactions. In February 2000, the Board authorized an additional purchase of up to 2,000,000 shares of Common Stock on the open market or in privately negotiated transactions, with an additional 500,000 share authorization made in May 2000. Through March 31, 1999,September 30, 2000, the Company had repurchased 1,488,0004,012,200 shares of Common Stock. The lineStock for $89,121,000. During the third quarter of credit
may be used to finance additional repurchases.
9
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED
================================================================================
THREE MONTHS ENDED MARCH 31, 1999 VS THREE MONTHS ENDED MARCH 31, 1998, CONT.
SEASONALITY2000 the Company did not repurchase any shares of Common Stock.
Seasonality
Consolidated quarterly operating results are affected by the seasonality of the Company's net sales and operating profits. Specifically, shell egg prices typically rise seasonally in the first and fourth quarters of the year due to increased demand during holiday periods. Generally, refrigerated distribution operations experience higher net sales and operating profits in the fourth quarter, coinciding with incremental consumer demand during the holiday season. Net sales and operating profits from dairy operations typically are significantly higher in the second and third quarters due to increased consumption of ice milk and ice cream products during the summer months. Operating profits from potato products are less seasonal, but tend to be higher in the second half of the year coinciding with the potato harvest.
YEAR 2000
The Company's Year 2000 initiative is separated into several projects: legacy
systems, personal computer components, wide area network components, local area
network components, and non-computer components. The approach for each of these
projects includes an inventory of possible Year 2000 components, an assessment
of Year 2000 compliance of each component, and identification and execution of
corrective actions for items that fail the assessment phase.
In 1995, the Company undertook implementation of the SAP Enterprise Resource
Planning system as a means to present a single interface with customers and to
have better information available for management to make more effective
decisions. The SAP system encompasses all significant processes and has been
certified Year 2000 compliant by an outside party. This project addresses and
replaces a majority of the Company's legacy systems and is scheduled for
completion before the end of 1999, except for the Refrigerated Distribution
Division. That division's legacy systems are currently being addressed and are
expected to be Year 2000 compliant by September 1999. Beyond the SAP project,
several non-critical legacy systems are being addressed throughout 1999. The
costs to modify and test any remaining legacy systems, if necessary, would not
be material to the consolidated financial position, liquidity or results of
operations of the Company.
The Company completed corrective actions for all personal computer hardware in
late 1998. An evaluation and any needed remediation of personal computer
software is expected to be completed by July 1999. The remaining information
technology systems for wide area networking and local area networking are
currently being assessed for Year 2000 compliance, with corrective action to be
completed by June 1999. The Company's overall business risk from these systems
is not significant.
The Company's non-computer components are now being assessed for Year 2000
compliance. The assessment of these systems will be completed by spring 1999.
Any corrective actions are expected to be completed by September 1999.
The Year 2000 projects also include an evaluation of critical vendors, suppliers
and customers relative to their Year 2000 readiness. Electronic data
communications with customers will be tested. Information is being solicited
from these important business partners and will be evaluated as it is received.
10
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED
================================================================================
THREE MONTHS ENDED MARCH 31, 1999 VS THREE MONTHS ENDED MARCH 31, 1998, CONT.
YEAR 2000, CONT.
Based upon the assessment completed at this time, the Company does not
anticipate any significant Year 2000 issues. All Year 2000 projects are
generally proceeding according to management's expectations. However, if there
are significant delays in their completion, or if major suppliers or customers
experience Year 2000 issues with their systems, such issues could adversely
affect the operations of the Company. After assessing the information received
from customers and suppliers and evaluating the status of the Year 2000
projects, the Company will develop an appropriate contingency plan, as required.
It is anticipated that this plan will be developed by September 1999.
Achieving Year 2000 compliance for the Company will largely be a by-product of
the SAP system installation. The costs of achieving Year 2000 compliance for
software not affected by the SAP system, computer components, and non-computer
components is estimated to be less than $3,000,000, of which approximately
$2,300,000 has already been incurred and expensed through March 31, 1999.
FORWARD-LOOKING STATEMENTS
12
Forward-Looking Statements
Certain items in this Form 10-Q aremay be forward-looking statements, which are made in reliance upon the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements are subject to numerous risks and uncertainties, including the possibility that capital projects and the
Year 2000 initiative may not be completed as rapidly as management expects.
Additional risks and uncertainties include variances in the demand for the Company's products due to consumer developments and industry developments, as well as variances in the costs to produce such products, including normal volatility in egg and feed costs. The Company's actual financial results could differ materially from the results estimated by, forecasted by, or implied by the Company in such forward-looking statements.
Item 3. Quantitative and Qualitative Disclosures about Market Risk
- -------------------------------------------------------------------
There were no material changes in the Company's market risk during the threenine month period ended March 31, 1999.
September 30, 2000.
13
PART II - II—OTHER INFORMATION
Item 5. 5—Other Information
- --------------------------
On MayNovember 3, 19992000, the Company's Crystal Farms Refrigerated Distribution Company announced it had completed the acquisition("Crystal Farms") subsidiary initiated a voluntary recall of certain
operating assets, customer list and the long-term leasetwo cheese items after learning of a dairy mix plant
from H. P. Hood Inc. The Newington, CT facilitytheir possible contamination with Listeria monocytogenes. It is now controlledestimated that less than 80,000 pounds of Crystal Farms cheese are affected by the recall. The cheese was produced by a Wisconsin-based dairy cooperative and packaged for Crystal Farms by a contract packaging company. Management believes the ultimate outcome of this recall will not have a material effect on the Company's Kohler Mix Specialties, Inc. subsidiary. The Company has an option to
purchase the building and land at the lease's termination. The cash paid at
closing was approximately $5.7 million. The plant mainly produces ultra-high
temperature pasteurized dairy mixes for foodservice customers in the eastern
United States.
11
Item 6. 6—Exhibits and Reports on Form 8-K
- -----------------------------------------
(a) Exhibits
10.68* Resolution adopted by the Board of Directors on April 29, 1999,
amending the Severance Plan for Eligible Employees of Michael Foods,
Inc. and Subsidiaries and extending its termination date for one
additional year.
10.69* 1997 Stock Incentive Plan of Michael Foods, Inc. and Affiliated
Companies as Amended Effective April 29, 1999.
27.1 Financial Data Schedule
* Management Contract or Compensation Plan Arrangement
(b)
| (a) | Exhibits | |
10.77 | Consolidated, restated and amended License Agreement by and between North Carolina State University and Michael Foods, Inc. | |
10.78 | Settlement Agreement and Mutual Release entered into by and between Nulaid Foods, Inc., Valley Fresh Foods, Inc., and Nulaid Nest-Best, and North Carolina State University and Michael Foods, Inc. | |
27.1 | Financial Data Schedule | |
(b) | Reports on Form 8-K | |
There were no reports on Form 8-K The Company filed a Form 8-K on February 25, 1999 disclosing a voluntary recall
of certain cartoned dairy products by its Kohler Mix Specialties, Inc.
subsidiary.
Signatures
- ----------in the three month period ended September 30, 2000.
14
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
MICHAEL FOODS, INC.
-------------------------------------------------
(Registrant)
Date: March 14, 1999 By: /s/ Gregg A. Ostrander
---------------------------------------
Gregg A. Ostrander
(President and Chief Executive Officer)
Date: March 14, 1999 By: /s/ John D. Reedy
---------------------------------------
John D. Reedy
(Vice President - Finance, Treasurer,
Chief Financial Officer and Principal
Accounting Officer)
12
| MICHAEL FOODS, INC. (Registrant) | ||||
Date: November 13, 2000 | By: | /s/ GREGG A. OSTRANDER Gregg A. Ostrander (Chairman, President and Chief Executive Officer) | ||
Date: November 13, 2000 | By: | /s/ JOHN D. REEDY John D. Reedy (Executive Vice President, Treasurer, Chief Financial Officer and Principal Accounting Officer) | ||